A TALE OF TWO USES: LANDOWNER PERSPECTIVES ON WIND LEASING AND TRANSMISSION EASEMENTS

Transcription

1 Presented: 2010 Wind, Solar and Renewables Fundamentals February 2, 2010 Austin, Texas A TALE OF TWO USES: LANDOWNER PERSPECTIVES ON WIND LEASING AND TRANSMISSION EASEMENTS Gregory S. Friend Author contact information: Gregory S. Friend Stahl, Bernal & Davies, L.L.P N. MoPac, Suite 211 Austin, Texas gfriend@sbaustinlaw.com (512)

2 TABLE OF CONTENTS Contents I. BACKGROUND... 1 II. DEVELOPER CONSIDERATIONS... 3 A. Should I Stay or Should I Go?... 4 B. Tell Me More... 4 III. THE WIND LEASE... 5 A. Let s Get It Started... 5 B. Building A Mystery Existing Uses/No Interference Payments... 9 C. The Long and Winding Road Term Payments Default Taxes Confidentiality Most Favored Nations D. Break It Down Again (or I Started Something I Couldn t Finish) IV. THE TRANSMISSION EASEMENT A. Transmission B. Can t Get There From Here C. Condemnation D. What s Going On? Easement Parameters Term/Length Termination Removal Existing Uses E. Only Time Will Tell V. CONCLUSION i

3 A TALE OF TWO USES: LANDOWNER PERSPECTIVES ON WIND LEASING AND TRANSMISSION EASEMENTS Wind is powerful. As a force of nature recognized for centuries, wind has the ability to shape the trees and the earth. It can influence decisions regarding the siting and construction of buildings, and possesses the ability to determine one s plans for an afternoon or affect one s travel. Wind can also serve as a fuel source to power our homes, businesses, and potentially our vehicles. However, in order to harness the power of the wind, and to transmit the generation to those that need it, land is necessary. Coming to an agreement on how such land will be utilized is the main topic here. This paper attempts to provide some key points on wind power, leases and transmission easements from a landowner s view. After first discussing the basics of wind energy, the paper provides a discussion of development issues faced by companies attempting to construct and/or operate wind projects in Section II. Section III addresses wind leasing from a landowner s perspective and the issues to cover in a negotiation on the subject. Finally, Section IV recounts transmission concerns (including an overview of the Competitive Renewable Energy Zone ( CREZ ) proceedings before the Public Utility Commission of Texas ( PUCT ) and condemnation proceedings), again from the landowner s standpoint. 1 I. BACKGROUND Although utilized on a local and smaller scale for centuries, wind power on a commercial scale is a relatively new phenomenon. In 1931, the first utility-scale wind development for the purposes of generating electricity was erected in Russia. 2 The capacity of that turbine was approximately 100 kw. 3 Put in context, 10,000 kwh is enough energy to power one home for a year. 4 Today s turbines bring much more to the table. Turbine specifications vary among producers, but for the purpose of having a general example, this paper reviews General Electric models. Onshore models range in nameplate capacity from 1.5 to nearly 3 megawatts (MW), and up to 4 MW for offshore turbines. 5 They are generally erected to a height of eighty meters, and the rotors can stretch out to approximately 328 feet in diameter for onshore models, and nearly 365 feet in diameter for offshore models. 6 Despite their great size, modern technology has advanced in such a manner as to allow the cut in speed (the speed the wind must blow in order for the turbine to turn fast enough to create electricity) to be approximately 3.5 m/s. 7 1 The musical references found in some of the subsection headings of this paper are to break any monotony the reader may be experiencing. An unintended consequence, however, may be that the song will be stuck in the reader s head for the duration of the day Id. 4 American Wind Energy Association, Wind Energy Basics, 5 See and (last visited January 25, 2010). 6 Id. 7 Id. 1

4 The first installed wind farm in the United States was installed at Crotched Mountain, New Hampshire in December, That wind farm boasted a full capacity of approximately 600 kw. Since that time, wind power has migrated to many additional states, including Texas. In 2000, California led the nation in installed and operating wind projects with a hefty 1,646 MW installed state-wide. 9 At that time, Texas had 181 MW installed. 10 In the span of six years, Texas became the leader in the nation, and continues to be so today, with over 8,000 MW installed. 11 In fact, the Roscoe Wind Farm located in Nolan, Mitchell, and Scurry Counties, Texas, is currently the largest wind project in the world, with a capacity of MW. 12 Further, Texas has plans to remain on top: public disclosures demonstrate that over 49,000 MW are in the pipeline to installation and operation. 13 With this quantity of power potentially available, one can see why wind developers flocked to the state. The question is, then, how do wind developers make money from wind power? Generally, there are two ways that a wind project sells its power. First, and preferential to most developers, is via a power purchase agreement ( PPA ), usually with an electric utility as the purchaser of the generation. The PPA usually spans many years (i.e., 50) and calls for the utility to purchase the output from a wind farm at a set rate, which usually increases regularly (for instance, every three or five years). This is the preferred method for developers since it almost ensures that the project will sell its capacity, so long as the turbines and related equipment continue to function and the transmission lines are not oversubscribed (more on this later). The second way a wind project sells its power is via the merchant market. In Texas, the merchant market, and ultimately the electric grid, is run by the Electric Reliability Council of Texas ( ERCOT ). The ERCOT grid is operated as an independent grid wholly situated within the borders of Texas, and therefore is under the jurisdiction of the PUCT. An explanation of the functionality and nuances of the ERCOT grid is certainly outside the scope of this paper. However, summarily, generators of electricity provide information to ERCOT on a day-ahead schedule which contain the amounts of power that project is available to produce on the following day. ERCOT gathers that information from all generators and enters the data into a computer program referred to as the Security Constrained Economic Dispatch ( SCED ). At the same time, potential purchasers of power for that same period (the next day) put in bids to ERCOT to purchase power. While there are additional factors that are involved in the program s output that affect the price of the electricity, including transmission line capacities and congestion, SCED ultimately matches an amount of power requested with an amount of power supplied, and selects the generator that will cost the least to the purchaser. In sum, SCED chooses the cheapest power on the market to supply the potential purchaser, and then moves on to the next calculation. This extremely brief and simplistic review of the merchant market demonstrates why the preferred method is the PPA. The reality of the power generation world, (last updated October 9, 2008). (last visited January 25, 2010). Id. ERCOT Technical Advisory Committee, Renewable Technologies Working Group, Texas Renewables Integration Plan Quarterly Update for the 3-Month Period Ending May 31, 2009, p. 1 (June 2009). The document can be found on the PUCT website ( through the P.U.C. Interchange, Docket No , Document No (last visited January 25, 2010). 13 Texas Renewables Integration Plan Quarterly Update, p. 2. 2

5 however, demonstrates that the merchant market is a viable option for a generator, although not as stable in the long term. The money received from the sale of the power is not the only income that can be received by a developer. Beginning in 1992, the federal government has provided incentives for the installation and operation of wind projects, in particular what is known as the Production Tax Credit ( PTC ). 14 The PTC is an amount that is paid by the federal government to the operator of the project for producing wind power. Currently, the PTC is equal to approximately 2.1 cents per kwh. 15 A developer has the right to earn the PTC for ten years following approval. The implications this has on a wind plant s ability to compete on a merchant market are significant. It is obvious that a generator s main goal is to have the turbines spinning and electricity being produced. Yet, the PTC provides additional incentive to keep the project producing electricity, so much so that the bids that are put into SCED can, and in the West Zone of ERCOT sometimes do, result in a negative bid being placed for consideration. Put another way, because the developer will be accruing $0.21 per MW generated, they are able to essentially pay the purchaser to take the generated power and still manage to make some money in the end. It is certainly not the ideal market for a generator, but in light of the huge amounts of congestion from the West Zone (where the wind is) to the North and East Zones (where load is), and the resulting affect on the price, wind generators will take it. It remains clear that how the power will be sold is of great importance to the developer, but as Section II below discusses, it is not the company s sole concern. II. DEVELOPER CONSIDERATIONS In Section III, this paper addresses the facets of a wind lease, and does so primarily from the perspective of an attorney representing a landowner in the course of such a negotiation. However, even in the event one is counseling a landowner, it is important that the practitioner be cognizant and familiar with at least some aspects of where the developer stands on the issues and therefore how that party will be influenced in the negotiation context. Moreover, if the practitioner represents a developer, this section can provide at the very least a starting point for discussions with the client. Please note that this section does not cover all considerations of a developer. Instead, this section will generally address the process involved in building the wind project, and provides some references to learn more about the specifics. The most important two ideals to keep in mind when representing a developer are (1) the developer is in the business of making money, and (2) the chances are very good, almost a lock, that the project will be financed by a third party. The developer s tactics, goals, and decisions will all be highly influenced by these realities, and counsel should understand them (last visited January 25, 2010). 15 Id. 3

6 A. Should I Stay or Should I Go? How a wind project comes into existence is a relatively extensive process, despite the fact that the timeline from start to finish is often no more than three years. What follows is an extremely simplified and generalized description of the process undertaken by a developer, and should be considered as such. The first step, ultimately, is finding a site. Developers perform research, either in house or via a third-party, to determine areas they believe may be sufficient to locate a wind project. The developer then approaches landowners in the area to obtain access to the properties at issue in order to begin an assessment phase. The vehicle for this access, as described in greater detail below in Section III.A, can vary from a simple access or meteorological ( MET ) tower agreement to an option to lease the property. Which vehicle is utilized can determine the what and when of this period of development. Some developers will first construct and operate a MET tower to gather data about the wind resource. If the wind is considered sufficient (a determination which can depend on the technology the developer plans to install, the financial aspects of the company and the project, and other factors), the company will generally then move to conduct land surveys, environmental assessments, and transmission studies (if not previously performed). The results from the assessments performed will be analyzed and a recommendation based on these findings is made. Concurrent with the timing of the studies, a developer may also be gathering information and possibly pitching the idea of a project and its output to potential purchasers of the generated electricity, and negotiating the terms of a PPA. Additionally, the company may be discussing financing options in house as well as with potential investors or mortgagees. The entirety of this information is compiled, considered, and analyzed, and a go/no go decision is made. If all of these hurdles are leapt over, the construction can begin. Some months later, barring interruptions due to weather, the economy, or other unforeseen issues, the project is up and ready to produce power, sell that power, and begin a revenue stream. B. Tell Me More Again, the description above is overly simplistic, and omits some aspects of the process, but it provides a starting point to understanding the developer s perspective. Addressing the extent of a wind company s considerations during this course of action, the roadblocks along the way, and how best to deal with the nuances of putting a project together is outside the scope of this paper. However, below find some references that address some of the various aspects a developer s counsel should be familiar with: 1. Brent Stahl, Land: Survey and Title Issues, presented at Wind Energy Institute 2008, Austin, Texas, February 2008; 2. Ben Cowan, Environmental Siting and Permitting Considerations for Wind Energy Facilities, presentation at Wind Energy Institute 2008, Austin, Texas, February 2008; and Gregory S. Friend, Think You re Done? Hardly. A Primer on Environmental Concerns Applicable during the Construction and Operations Phase of a Wind Project, presented at Wind Energy Institute 2008, Austin, Texas, February 2008; and 4

7 3. Shannon H. Ratliff, II, County Tax Abatements and School District Limitations on Appraised Value: Recent Attorney General Opinions and Legislative Outlook, presented at Wind Energy Institute 2009, Austin, Texas, January This is far from a comprehensive list. Nonetheless, these resources provide helpful discussions and viewpoints, and should serve as a basis for further inquiry into the various issues a developer must consider during the course of assembling a wind project. With these various aspects of development in mind, a discussion regarding the nuts and bolts of the wind lease from a landowner s perspective is in order. III. THE WIND LEASE Arguably, the foundation of the wind project is the wind lease. Obviously, without rights to the surface acreage, developers would have no place to site the turbines and other related equipment necessary for a wind project. However, it should be noted that the collective terms of the leases in the project may affect the financing that is secured, and can influence the economic viability of the farm. From the landowner s perspective, the wind lease is the end-all-be-all of their interaction with the developer, and must be approached from that position. This could be the last opportunity to determine how the relationship is governed for the extent of the lease. A. Let s Get It Started This part of the relationship between the developer and landowner can take a few different forms, depending on the expectations and general practices of the developer. The relationship can be governed by an access agreement (as an independent document or as part of an easement/lease), an option to lease, or may just be found in a lease as a development term. While these different mechanisms exist, they all ultimately cover the same time period and do so for the same reasons: the agreement spans a 3 to 7 year period following execution, and prior to any construction or installation of wind equipment, during which the developer has the exclusive right to assess the subject property, including title, environmental, transmission, and wind studies. In an instance where the defined development period is within the parameters of a lease (whether an option or a specified development term), the length of the term may be cut short by the inclusion of a provision in the lease document that automatically begins the initial term (which includes the construction period) upon the commencement of construction on the property. In other words, when dirt is first moved on the property in furtherance of constructing the facilities, the lease moves into its next phase, generally without any action required on the part of the landowner or developer to so indicate this change. The most basic and ultimately important items to discuss and consider at this stage are the payments to be made by the developer to the landowner. The basis for these payments are (1) access to the property to conduct surveying and studies, and (2) to possibly install and maintain a MET tower for the purposes of wind and weather measurements. One must recognize that if the land is such that a MET tower is installed on or near to the property, a negative easement is likely also included. Specifically, the developer will most often include in the terms of this early agreement that the landowner may not perform any activities or make any use of the property that would restrict the free flow of the wind in the area of the MET tower. Therefore, 5

8 the payments to the landowner ought to be on a per acre basis, since although it is possible that the installation of a MET tower will utilize a relatively small amount of land, and access must be secured to construct, maintain, and collect data from the station, the related negative easement also places a burden on the property, and the compensation for that right to the developer should be recognized. If preferred, the landowner may also require that existing roadways be utilized for access and travel on or across the property. In the event existing roadways are not available up to the MET tower site, a payment for the construction of a roadway is also common, with consequent duties of the developer in the agreement to maintain the roadway. It is incumbent upon the landowner to ensure that language covering these points be included in the agreement, especially where the contract is not an option or a development term arrangement. Moreover, as discussed in greater detail below, if the arrangement is in the form of an independent agreement, further issues must be addressed in the document, including indemnity, default, removal procedures and standards, and other relevant provisions, many of which that would be found within the language of the easement/lease portion of a larger agreement. As for the term of the access period, the amount of time the landowner wishes to allow his land to be burdened must be considered. The length of the term is not standardized across all leases, and often varies based on transmission constraints. For example, development periods found in agreements for the Texas Panhandle range from five to seven years, mostly based on the reality of little existing transmission in the region. Section IV describes the CREZ process and the consequent construction of transmission lines to, among other places, the Panhandle. Pursuant to the latest plan, transmission to the Panhandle will be energized, at the earliest, in Consequently, a developer with plans in the Texas Panhandle will request a longer period of time up front so that they are not bound to either extend the existing or negotiate another access easement (in the event the agreement is a stand-alone type), or to begin construction of the project (in order to satisfy the terms of the lease in the event the arrangement is one of an option or development term) before a way to get the power out is ready. The normal construction period for a wind project is much shorter than the period of time it takes to construct a high voltage transmission line. Conversely, access agreements and leases in the southern part of Texas generally contain a three-year term since transmission and capacity is more readily available in that area. The bottom line is that the landowner must be aware of what the common time frame is for an access period in his area. A landowner will not want to tie up his land unnecessarily, but it is also in the landowner s best interest to not require the period to be too short, as that could lead to a cancellation of the project due to time constraints. The last item specific to the opening stage of a wind project and the developer s activities on the landowner s property is the gathered data. As previously mentioned, the developer uses this initial period to assess the property to determine the feasibility of the installation and operation of a wind facility at this location. The feasibility decision is usually based upon (1) what the MET data tells the developer, (2) whether any environmental concerns are present on 16 See ERCOT s Analysis and Sequencing Recommendation, filed in P.U.C. Docket No , Interchange Document No. 35, filed May 29,

9 the land, (3) the ownership and extent of the property that is discovered as a result of surveying, and (4) what options exist related to transmission. The owner must ensure that the agreement regarding access to the property requires the developer to turn over the data from the MET tower, the results of the survey, and any findings from the environmental assessments. This disclosure of information is often tied to the cancellation or expiration of the development period (i.e., the developer determines a project is not feasible, whether as a result of the aforementioned studies and analyses, or simply because the project will not be economically viable). It is imperative that the landowner have this information following the departure of the developer as the results and data will provide a good starting point for another developer that wishes to pursue a project in the area, and may also assist the landowner in shopping the property. Assuming the feasibility studies determine that a project is viable, and the terms of the access agreement or easement/lease have not been breached or expired, the project will move to its next stage: construction. B. Building A Mystery Unlike the development period, the construction, operations, and removal phases of the wind farm are all generally found in the same document; specifically, depending on the preferred method used by the developer, a lease or easement agreement. Moreover, in most leases the construction period is not specified for the purposes of outlining the commitments on the part of the developer or landowner. Instead, most leases move into the initial term. However, for the purposes of addressing each physical phase of a project, this paper refers to the construction period as an independent portion of the life of a lease agreement. During the construction phase, the developer will be installing roadways, turbines, substations, operations and maintenance ( O&M ) buildings, and transmission lines (including collection, telephone, and other communication lines). This stage can last from six to twelve months. While the project is not yet satisfying its ultimate goal (producing electricity), this stage commences the commitments between the parties that will last for the term of the lease, anywhere from 30 to 50 years or more total. The main provisions applicable during this stage are those involving existing uses/no interference, payments, default, indemnification, environmental issues, taxes, and confidentiality. This section addresses those concerns related to the first three. 1. Existing Uses/No Interference Besides the Gross Revenues provisions of a lease, which are discussed in more detail below in Section C.2, the existing uses/no interference clauses tend to cause the most concern for a landowner. The lease often contains a statement listing the rights of the developer to the lands, including what activities it may conduct. These usually include rights to (1) access the property, (2) an easement for the free flow of the wind over the property, (3) an easement to install transmission lines (including power lines, fiber optic or other telecommunications lines, and sometimes closed circuit television lines), and (4) to conduct studies and surveys to determine the extent of the rights related to the land. On the other side of this coin is the existing uses clause, which generally (it can vary between companies) states that the landowner possesses the rights to utilize the property in the 7

10 manner it had been used previously, so long as that activity does not interfere with the rights granted to the developer pursuant to the lease. This clause is also usually followed by a no interference clause, which reiterates that while the landowner has the rights to existing uses of the property, those uses cannot interfere with the rights granted to the developer in the lease. At this point, caution should be used to ensure that the no interference clause does not overly restrict the landowner s uses. While it is acknowledged that in order for the easements granted to the developer to be worth anything the landowner must be restricted from interrupting the free flow of wind across the property or holding the project hostage by continuing to do as she pleases with the property, a reasonableness standard should be applied so that the developer cannot completely restrict the landowner from doing anything on the property during the construction period or on into the subsequent phases of the project. Counsel should consider including in this provision that no unreasonable or significant interference may occur by the landowner. Of course, this likely would require defining those terms in the agreement, but the terms could be drafted in a manner that provides that the claimed interference must have a negative commercial affect on the project in order for the landowner to be restricted in his use. In any case, the landowner s and developer s respective goals should be kept in mind during the drafting of this provision. Therefore, prior to beginning the negotiation of a lease, an attorney ought to discuss with his client the specifics of (1) what activities are currently occurring on the property, and (2) what the landowner s plans for using the surface into the future. Additionally, the landowner should explain whether there are current lessees on the property of any sort, including oil and gas exploration companies, grazing lessees, easements across the property in favor of non-owners, farming lessees, and persons with rights to hunt the property. It is also quite common for a grazing, farming, or hunting lease to be unwritten, so that must also be taken into account. The particulars of these common existing uses must be assessed and drafted accordingly. For instance, developers usually require rules addressing hunting during times when their employees or contractors are present on the property. Typically, and obviously, a developer s main concern is the safety of its agents and employees, and consequently the developer s lease will provide not only for standards related to the hunting activities themselves (i.e., distance restrictions related to hunting near construction sites or types of firearms allowed), but also may require that hunters with access to the property sign a waiver placing responsibility for problems on the hunter and indemnifying the developer and landowner against hunting-related liabilities. The landowner, while keeping in mind the aforementioned safety goals, should ensure that these provisions are not so restrictive as to completely deny the right to hunt, and in the event that they do, proper compensation should be provided to make the landowner whole for this lost revenue. Provision should be made for a reimbursement of lost hunting income by allowing proof of such loss, either in the form of a written lease, a deposit slip, or an affidavit, and should account for the amounts typically received for hunting on the property. Farming and grazing can and should also provide for reimbursements for lost income related to the developer s use of the property that result in the landowner s inability to fully utilize his property for these purposes. Again, the lease should specify an amount to be given based on the market value or going rate in the area for such activities, and should be designed to 8

11 provide for prorated amounts in the event a partial portion of income is lost due to the activities of the developer. How the lease addresses oil and gas leases also requires particular attention and is usually split into two instances: existing leases, and future ones. For existing leases, the oil and gas exploration activities will have priority over the wind lease because exploitation of the mineral estate is a dominant right to the usage of the surface estate, thereby entitling the mineral lessee to all reasonable use of the surface to produce the minerals. 17 The extent to which the lease addresses existing oil and gas arrangements is limited to a recognition that such leases exist. For future leasing opportunities, the wind lease/easement will often include a provision requiring the landowner, in the course of negotiations, to request that the oil and gas operator include in its lease a provision acknowledging the existence of the wind lease and to subordinate the mineral lease. Ultimately, this request to the oil and gas entity will be to include language reflective of the accommodation doctrine. The accommodation doctrine, in its simplest form, requires the mineral lessee to use alternative methods of producing the minerals if a reasonable alternative exists to perform such production, one which permits the surface owner to continue to use the surface in the manner intended. 18 This doctrine is based on due regard for the surface lessee s rights to use the surface. 19 Summarily, the mineral owner must determine whether alternatives exist to produce the minerals (by directional drilling, for example), and if such alternatives are reasonable, the mineral owner must use those alternative means. For the purposes of the wind project, this issue is one where, as a practical matter, these potential conflicts between the exploration company and the wind developer are often worked out on the ground between the parties. However, counsel ought to consider including in the applicable wind lease provision that the landowner will use its best efforts to secure such language from the oil and gas lessee, as opposed to being required to do so, which could possibly result in the landowner being subject to a default under the wind lease in the event he is unable to convince the mineral lessee to add such terms. The existing use/no interference portion of a wind lease must be carefully scrutinized and negotiated in order to ensure that the landowner s continuing needs are met in conjunction with providing enough authority to the potential surface lessee to develop the property for its intended purpose. By understanding the landowner s current and planned future uses of the property, counsel should be able to achieve the right balance to allow negotiations to go forward. 2. Payments Despite the fact that the project has no ability to produce electricity at this point, the landowner should ensure that she continues to be paid for the use of the land, and further receive compensation for the surface damages attributable to the installation of this equipment. Consequently, the lease should specify that per acre payments continue, possibly at a higher monetary rate than during the development period, and that installation fees are paid within a set amount of time following the commencement of construction or the individual completion of each item. Payments for turbines can be based upon the full tower (i.e., $5,000 or $10,000 per 17 Ball v. Dillard, 602 S.W.2d 521, 523 (Tex.1980); Getty Oil Co. v. Jones, 470 S.W.2d 618, 621 (Tex.1971). 18 Getty Oil Co. at Id. 9

12 turbine) or upon the megawatt rating of the turbine installed (i.e., $3,500 per megawatt). Roadways and transmission lines are generally compensated on the basis of the length of the installation (usually per rod). Substations and O&M buildings ought to trigger one-time payments based on the amount of acreage used (the default acreage amount for both is often three acres), with a provision for additional monies due in the event the facility utilizes more than the defined acreage. Additionally, if the reimbursements for grazing, hunting, farming, or other specified issues are applicable to the landowner s property, payments likely will begin at this initial stage. Additional potential payments at issue during this phase include those related to overhang and laydown areas. Regarding the former, it is an instance where turbines installed on an adjacent property not owned by the landowner overhang the owner s land. In this situation, a provision should be provided in the agreement stating that a certain fee should be provided to the landowner for any such overhang on a yearly basis. Some developers do not provide for these payments, and some will provide them only so long as the landowner does not have any turbines installed elsewhere on her property. A payment for a laydown area is a result of the developer using the property for the purposes of storing equipment and/or staging construction from that location. Since the developer is using that portion of the land to the exclusion of the landowner, and conceptually is causing surface damages to the land that is not otherwise compensated for in the lease, a fee should be provided. The fee is usually on a yearly basis, and would be prorated for partial years. Finally, while not occurring during the construction phase, the issue of repowering can logically be considered here. Repowering is the process by which a developer upgrades the technology on the project, usually the turbines. A developer may decide that newer classes of turbines with greater generating capacity are a good fit for the project based on its past performance. The lease will provide the developer the right to repower, and the landowner should ensure he is compensated for the repowering efforts according to the previous terms of the lease, (i.e. payments for turbine installations, whether on a tower or per megawatt basis). In short, any surface damage-related payments should apply in the event of repowering. In the context of our review the overall process involved in a project, the respective portions of the land have been cleared, the facilities have been constructed, and electricity is now ready to be produced from the wind streaming across the area. The relationship between developer and landowner now transitions to one of operator/payor and payee, and while some of the general terms of the agreement have already been effective, such as default provisions, indemnity issues, and tax considerations, to name a few, they become particularly applicable in this next stage. C. The Long and Winding Road This section focuses on what will be referred to as the operations period, which is the bulk of the term during which a project will be functioning. The landowner counsel, during negotiations and drafting, must focus on the various provisions of the lease with the mindset that they could all be in play during this phase, and should consider them accordingly. This section will not cover every provision at issue during the operations period, but will address those of greater interest to a landowner. 10

13 1. Term Many leases are broken down into separate operations terms, generally referred to as an initial term and one or more extended terms. The initial term is usually effective upon the commencement of construction, and lasts for a set number of years. During this time, the concepts and provisions found in the wind lease are effective. In the event the lease agreement makes provision for extended or additional periods, how leases deal with the transition from initial to additional terms can vary. Some developers prefer the term to automatically extend into the additional periods with nothing required other than notice to the landowner that the lease is continuing. Conversely, some leases state that upon the approach of the expiration of the initial term, the developer, should it have interest in continuing to utilize the project to generate electricity, will approach the landowner to discuss continuing the relationship between the parties. From the landowner s perspective, this latter scenario remains the preferable one. However, the provisions of this potential extension period must, logically, be negotiated and agreed to many years (think 25) prior to the actual occurrence. Therefore, specifying in the lease the standards to adhere to during that period must be performed at this stage of the negotiation. The first item to address is timing, including the deadline by which the developer must approach the landowner, as well as the deadline for agreeing to an extension. These deadlines will be affected by the number and content of the topics that must be discussed among the parties, but generally the contract can present a start date for contact between the parties for nine months to a year prior to expiration of the original term. The participants ought to also discuss the financial ramifications of an extended term. As referenced in subsection 2 below, the landowner ought to require some sort of increased amount for regular payments over time, and this will apply to an extended term as well. Alternatively, the owner may want to include language in the lease to request that negotiations occur following the expiration of the initial term in order to ensure that market rates are paid to the landowner. This provision must also specify that the negotiated amount will be no less than the royalty rates or dollar amounts currently paid at the end of the initial term. In sum, the landowner may want to attempt to renegotiate for better payments following the first term, but she should ensure her payments do not end up lower than they were at the period s end. Landowner counsel must also inquire whether the term as laid out in the lease applies to all aspects of the wind project, including the transmission easement. On occasion, the lease term will apply to the presence of equipment, operations on the property, and access to the property, but will not apply to the transmission lines present on the property. The developer may want to secure a perpetual easement in the agreement so that, even if the project on this property does not operate for an extended period of time, or if the specific property the easement burdens does not ultimately have turbines installed and that land is released, they still have the right and ability to transmit energy from elsewhere in the project or from other projects in the area. The terms for payment of the transmission lines should therefore reflect the landowner s opinion on essentially selling that strip of land, since the perpetual easement will operate in that manner. This is not to say that a landowner should not agree to this provision, but instead that she should be aware of the specifics of the term and negotiate accordingly. Perhaps the most efficient way to deal with this issue is to request that the term of the transmission easement be coterminous with the remainder of the lease provisions. 11

14 The author believes it is of utmost importance to impress upon the landowner the extent of their commitment by executing a wind lease. The landowner must be aware that, in many cases, this is literally a life-long commitment, and he must be certain this is acceptable. Landowner counsel must stress viewing the big picture to her client before the landowner enters into such an agreement that, as explained below, does not provide many opportunities for the landowner to cancel or terminate the lease. Not only must the term be strongly analyzed, but the payments due in return for the usage of the property require careful consideration and the landowner must remain comfortable with those terms. 2. Payments Perhaps the most complicated portion of a lease relates to the payments to be made by the operator to the landowner as a result of the sale of electricity from the project and other payments received by the operator related to its usage of the property as part of the wind farm. Generally, the operator calculates payments to the landowner based upon a formula that considers the amounts received by the operator from the sale of electricity. The royalty rates may vary from company to company, area to area, and the type of arrangement to sell the power (PPA vs. merchant market, as explained in Section II above). Moreover, different combinations of payments may be available. The most common form of payment is the royalty. At the heart of a royalty is the concept of gross revenues. While there is no standard language across the industry, gross revenues are generally defined as the proceeds received by the developer for (1) the sale of electricity generated on the land, and (2) the sale of credits related to the production of energy on the property. These credits can include renewable energy credits, greenhouse credits, or pollution credits, but usually does not include revenues from the federal production tax credits or investment tax credits. It is imperative that the landowner pay particular attention to this definition and related provisions for they can have a great impact on payments. For starters, the landowner must ensure that any funds attributable to agreements, contracts, or other arrangements related to the sale of electricity produced on the property are accounted to the landowner. For example, payments received by the operator from a purchaser in lieu of continuing on under the terms of a PPA should be distributed to the landowners, since had the contract not been cancelled or bought out, production from the land would have continued and earned additional revenues pursuant to the lease. Additionally, any funds received as a result of actions by the developer/operator against a purchaser (including failure to pay for power delivered) should also be distributed to the landowners. Gross revenues are utilized to calculate the royalty paid to landowners. The negotiation surrounding the values for royalties is largely based on the market value of the time, the area, and the amount of land involved. One important point, however, is that a lease commonly provides for an incremental increase in the royalty value as the term continues, i.e. a certain percentage for the first ten years, an increased percentage for the next ten, etc. The incremental increases should be applied to any recurring or continuing payment the landowner is eligible for, including the per acre payments, the per megawatt installed amounts, per turbine amounts, annual dues from locating substations and/or O&M buildings, and others. At the very least, the 12

15 landowner should insist on an increase matching the Consumer Price Index. Landowners whose payments do not increase over time are landowners that lose potential income. The lease will also likely contain a minimum royalty provision, which provides for a certain floor amount that a landowner will receive on an annual basis. A minimum royalty is generally reflective of a certain payment per megawatt installed on the property, or the total number of towers on the site, or a per acre payment, or even the highest of these values compared to each other. The minimum royalty payment is usually calculated by totaling the amount of royalties a landowner received over the course of a year (or shorter period if the developer so desires), and in the event the total is less than the amount specified in the lease as the minimum royalty, the operator agrees to pay the difference. Developers vary on how a minimum royalty is constructed, with some companies providing a minimum royalty only to landowners that have turbines installed on the property, while others provide a per acre payment that serves as the minimum payment to be received for any landowner regardless of the presence of turbines. A landowner should specify that the minimum royalty should increase on a regular basis so as to adjust for inflationary increases, but also increases in the price for which power generated on the property is sold. As a practical matter, the minimum royalty or payment is what the landowner must be comfortable with in order to enter into the lease. Most landowners would be happy with the royalty payments in the event electricity prices are high, the wind is blowing often, and disruptions are at a minimum. However, the chances are at least even that a landowner will receive the minimum royalty at some point over the life of the lease. Since the payments to the landowner will go no lower than the minimum royalty, if he or she remain satisfied with accepting the minimum royalty in exchange for allowing the developer to utilize the property to generate electricity, the remaining monetary terms are relatively less complex to discuss and negotiate. As a practical matter, landowners that are not satisfied with receiving just the minimum royalty, or simply want to have turbines on their property, may provide some resistance about entering into a lease with a developer. Often this resistance manifests itself in demands by the landowner to guarantee the installation of turbines on the property or she will not participate in the project. In the event this particular landowner holds a large amount of land, the developer may consider such a request. Where the landowner controls a significantly smaller portion of land, the developer often informs the owner that the project can and will be built around the objecting property. However, another solution for the small landowner is becoming more common: the community royalty. The community royalty, or a pooling provision present in the wind lease, while not particularly prevalent in Texas, is becoming more widely implemented in agreements in other parts of the country. At its core, the community royalty provides a royalty to all landowners that are a part of the project regardless of whether a turbine is installed on the property, albeit at different rates than those with turbines present on their lands. This sort of provision has a long history in the oil and gas world, where landowners that enter into an oil and gas lease, but which do not have an interest in the property where the well is located, are compensated on the production of the minerals based on the proportion of their acreage to the whole area in the 13

16 proration unit. Conceptually, this exists because a proration unit encompasses the land area that a well will drain, and if an owner s land is within that perimeter, their minerals are being produced, and therefore they should be entitled to their pro rata share of the proceeds from the sale of that hydrocarbon. In the wind arena, as explained previously, the lands adjacent to and within a certain distance of the project s turbines are important because their rights to perform activities that could interfere with the flow of wind across their property towards the turbine are restricted. Therefore, similar to the mineral lease, these buffer properties assist in the production of electricity by the turbine located nearby, and the landowners should be compensated accordingly. Similar to the oil and gas lease, the lessor on a wind lease should be paid based on his proportion of land to the total land area encompassing the project. For example, the applicable provision could provide that a percentage of the Gross Revenues (as discussed previously) produced by the entire project would be multiplied by the ratio of acres contributed by the landowner as compared to the total project area. The percentage of Gross Revenues involved in this calculation is generally one or two percent. In practice, the excitement level on the part of a landowner to this type of provision will ultimately depend on the amount of acreage owned. Community royalty provisions are well received by smaller landowners with a slim chance to get a turbine installed on their land, where large landowners may not be particularly eager to share royalty revenues that would otherwise be theirs. An additional benefit of the community royalty is that it may assist a developer in cultivating relationships within the project boundary as well as in the overall area. 3. Default A default under the wind lease can take many forms, but in its simplest sense, the default is the failure on the part of one of the parties to satisfy its covenants outlined in the lease. How the default is dealt with within the confines of the agreement is where some confusion and some considerable disagreement can arise. Landowner counsel should be certain that the default provision is as protective of the landowner as possible, and practical in its application, which is not always an easy task. The first step is defining the procedures for an opportunity to cure a default. Generally, the lease should supply a set period of time within which the defaulting party may cure the default following notice from the non-defaulting party to the defaulting party describing the alleged default. In the event the defaulting party fails to cure within the defined time period, the lease should provide for some sort of remedy to the non-defaulting party. At this point the respective opinions regarding the proper remedy often diverge. Generally, a developer will desire to have the default remedies limited to any recourse at law that would be available to the non-defaulting party, short of the ability of that party to rescind or cancel the lease. The landowner often will seek to have the remedy provision supply the right to rescind or cancel based on the belief that such a remedy would assist in deterring a failure to cure. Another aspect of this issue is that some developers prefer to split defaults into monetary and non-monetary categories, and set out different time periods to cure each, with more time afforded to cure nonmonetary defaults. This is a result of a simple fact throughout leases: the developer is not in favor of including a provision that results in a termination of the lease, perhaps with the 14